P

rices push up production
The oil price growth which began in 2002 resulted in larger tube and pipe export and consumption by oil producers. Along with it the demand for tubes and pipes in machinebuilding and construction was increasing. In 2003 the Russian output of steel tubes and pipes grew 18 % amounting to 6.1 million tons. Here at the Russian tube and pipe makers’ the utilization rate rose from 54 to 64 %.
In 2003 the largest production build-up was observed at the Volzhsky Pipe Plant (VTZ), Chelyabinsk Tube-Rolling Plant (ChTPZ) and Tagmet (see Fig.1).
Notwithstanding the discussions on possible fall of tube and pipe production due to a rapid growth of steel prices that started early in 2004 the market continues to expand. According to the forecasts, the total consumption of steel tubes and pipes in Russia is anticipated to reach 6.5 million tons in 2004, that is, 15 % higher than the 2003 year level. In particular, the Russia’s largest producer - Pipe Metallurgical Company (TMK) - increased sales by 10 % and delivered 1.25 million tons to customers in the first half of the year. The other market leader, that is, the Vyksa Steel Works (or VMZ, a member of United Metallurgical Company) raised shipments by 11 % and delivered 474,000 tons.
Surely growth of prices for tube billet whose share is around 70 % of prime tube/pipe cost on the average threatened the financial position of tube and pipe plants. But their consumers anticipating an inevitable price growth increased purchases and it helped tube and pipe industry to stay up. Apart from it, tube plants responded to the input material price hike by the growth of transfer prices: by MetalTorg data, 3 million tons of tube and pipes produced in the first half of 2004 cost 43 % more than a year before.

Too many debts
Such a step as a change in supply structure had a positive effect on the financial position of tube and pipe plants. Here the emphasis was oil country tubular goods (of high demand in the market) and captive steel.
ChTPZ and PNTZ (Pervouralsk Novotrubny Plant), as they have no steelmaking operations of their own, are most dependent on steel price whereas the tube plants incorporated into TMK and UMC are over 50 % provided for with rolled products made within the corporations. Moreover, in April TMK managed to sign a contract with EvrazHolding for the supply of 240,000 tons of billets at firm prices. ChTPZ has similar agreements with the Magnitogorsk Iron & Steel Works and Ural Steel.
On the whole, tube and pipe industry was not very much affected by the price jump in the steel market as some analysts had been afraid of. For the first half of 2004, the profitability slightly fell at ChTPZ, VMZ and PNTZ (Table 1) whereas the TMK plants (SinTZ, SevTZ and VTZ) showed a substantial rise of profitability.
At the same time there are financial problems in this sector. It must be noted that at some plants the growth rate of receivables is higher than that of proceeds. At the Vyksa Steel Works the difference is covered by the substantial increase of short-term loans which, in our opinion, speaks for not only frozen funds but lower financial stability as well. A high share of borrowed funds in the capital structure due to large long-term loans and receivables can be noted at the TMK plants (SinTZ and VTZ).
In so doing, risk of lower financial stability of Russian tube and pipe companies appears in foreseeable future.
ÒÌÊ piles up the debt by issuing bonds and attracting credits. In our opinion, it may become dangerous if to take into account its dependence on offside suppliers and a low liquidity level. The ambitious corporate plans to become the biggest tube and pipe player in the world may barge against a strong dependence of the plants upon price situation. With due regard to the expected drop of prices for steel products in the forthcoming years, future cash flows may fail to cover the required debt payments.

Russians go to Europe and US
Lately a pronounced trend towards enlargement is vividly traced in the world tube and pipe market. Plants being integrated into holdings are diversifying production operations. This trend did not leave aside the Russian tube and pipe industry. Several holdings were set up: ÒÌÊ incorporating VTZ, SinTZ, SevTZ and Tagmet and UMC including VMZ and the Almetyevsk Pipe Plant. A little later ChTPZ Group was established. PNTZ alone out of big tube and pipe producers is outside the integration process as yet.
The start of the formation of ChTPZ Group took place when in 2002 the controlling stocks of plants producing shapes applied in the erection of pipings and transfer stations (over 75 % of the authorized capital of the Moscow Plant of Special Erection Products and Magnitogorsk Plant of Mechanical Erection Blanks) were purchased. The plants control over 20% of the large-diameter branch line market. The acquisition was targeted at the generation of an integrated process flow sheet which will permit an entire range of accessories to be offered to the clients. This strategy also covers the formation of a trading company – MeTriS – based on the local stores of ChTPZ. Till 2005 ChTPZ intends to gain up to 60 % of the Russian market of large-diameter branch lines.
A gossip of possible integration of ChTPZ and PNTZ (in circulation this summer) has not yet been proved. Late in 2002 both producers made an attempt to establish a common sales network but failed. While occupying the 2nd and 4th positions in Russian production tonnage they do not intersect in product range. It will permit a company to be set up which will be the first but one (just below TMK) producer highly diversified.
ÒÌÊ intends to be enlarged as well. Today this company, together with Tenaris and Vallourec & Mannesmann, forms a group "big three" of world largest producers. Its target is to become No.1 in three years. The available production potential exceeds the facilities of the other two tube and pipe giants. The only obstacle is the limited market of Russian products. TMK aiming at increasing its share in the world tube and pipe sales expands the dealer-and-distributor networks and purchases foreign assets. òàêæå ñîáèðàåòñÿ óêðóïíèòüñÿ.
In March 2004, TMK bought a new asset in Rumania, Combinatul Siderurgic Resita (a 450,000 tpy steel plant), a second one after the Artrom tube plant purchased in 2002. The share price was symbolic – US$1 but the terms and conditions of the deal implied the commitment to pay the plant’s debts amounting to US$10 million and invest another US$15 million in the development of the operations. Now based on its enterprises in the East European country, TMK can establish a steelmaking complex of its own which will annually produce about 90,000 tons of tubes and pipes using captive input materials.
In September 2004, the Russian leader made another important step to gain the market – to conclude an alliance with US Lone Star Steel Co. The latter became an exclusive trader of oil and gas pipes of TMK in the US market.

Fight for "large pipe"
The greatest pipe market is the Russian oil-and-gas industry with the most prestigious niche of 1420-mm long-distance pipes for Gazprom which is the focus for sharp competition. UMC as well as Severstal-EvrazHolding and ChTPZ-ÌÌÊ alliances are now indulged in production projects for such pipes. Today the gas monopolist buys foreign large-diameter pipes for the most part. The main suppliers are Mannesmann (Germany), ILVA (Italy), Sumitomo and Nippon Steel (Japan) as well as the Khartsyzsk Pipe Works (Ukraine).
The only Russian supplier of 1420-mm pipes is TMK. The spiral welding process is applied at VTZ (a member of TMK). In 2003 the production tonnage reached 120,000 tons. In 2004 TMK planned to supply 200,000 tons of large-diameter pipes to Gazprom but in May the purchases were temporarily halted which can hinder the sale of the planned figure. If Gazprom cancels the purchases of spiral-welded pipes in favor of other projects TMK will have the only way-out – to look for a foreign buyer. In this case considerable investments will be required to raise the competitiveness of the product.
Early in 2005 a large-diameter pipe line is to be commissioned at the Vyksa Steel Works. A pipe mill, a joint project of Severstal and EvrazHolding, will be also put on stream in St.Petersburg. In so doing, the total 1420-mm pipe facilities will be over one million tons in capacity. Meantime the actual requirements of Gazprom are much lower. That is the fact that along with the ongoing import supplies discredits the promise of rapid payback of the new production operations.
ChTPZ Group would also appreciate Gazprom orders. It offers 1020 to 1220-mm heavy-wall pipes to be applied in the construction of long-distance lines instead of 1420-mm pipes. Here the production figure may be 350,000 to 400,000 tpy. The billets can be made at the Magnitogorsk Iron & Steel Works (ÌÌÊ) where the 2500-mm mill should be revamped for this purpose. However judging from the statements of the MMK managers, this alliance may not take place. It is possible that this Russian steel giant will make an independent try to master the production of spiral-welded pipes. Both variants seem to be risky enough because today Gazprom is oriented to 1420-mm one-seam longitudinal-welded pipes.

Need of new loans for investments
Another strategic direction of investments in the Russian tube and pipe industry is a set-up of own steelmaking and rolling operations. Such projects are whipped up by a continuous growth of prices for tube billets.
PNTZ, ChTPZ and SinTZ are big pipe producers without skelp production operations of their own. PNTS is most active in going in this direction: the shareholders plan to invest US$120 to 150m in the construction of a 800,000 tpy steel plant with 600,000 tpy to be used for own needs. The rest will go to the market. These production operations will allow 70 % of PNTZ requirement for tube billets to be met.
Investments in widening of product range and improvement of pipe quality are still urgent. The strategy of ChTPZ is aimed at perfecting quality of long-distance, oil line and casing pipes and tubes. Till 2007 the group intends to invest about US$150m to strengthen its position in the market. In particular, it figures on an order for supply of pipes for construction of the Angarsk-Nakhodka long-distance line.
ÒÌÊ is going to spend US$1 billion during a decade. Both tube-rolling and steelmaking facilities are to be updated.
Most probably, when implementing such large-scale investment programs the companies will not be able to go without foreign loans. Today ChTPZ and TMK are most active in this direction. ChTPZ Group has already attracted a loan for US$50m from EBRD till 2007. By the end of 2004 it plans to place the first bonded loan for 3 billion rbls (US$100m). TMK will issue bonds for the same amount. It will be the second bonded load – the first one for 2 billion rbls (US$200m) took place a year ago. At the same time, TMK cannot finance the investment program only due to the build-up of commitments. It results from a US$600m credit agreement concluded with Dresdner Bank AG in June. The funds were taken by TMK for 10 years in order to redeem the share stocks of the plants under management from the company’s shareholders. The terms and conditions of the agreement include a 10% annual interest and a deposit of 25% + 1 ordinary share of SinTZ, SevTZ, VTZ and Tagmet which limit the potential of TMK for attracting loan funds for over US$500m. The lacking amount of US$500m for funding the investment program will be most probably attracted by means of IPO.
It is generally got along on the TMK plans to become world tube and pipe company No.1 in 2008 whose shares will be in public flotation at world stock exchanges. European markets are most preferred for placement since just European consumers buy the main portion of the company’s exports. In the near future TMK intends to pass corporate management and credit ratings by Moody’s and Standard & Poors international agencies.

Shares of tube and pipe producers grow in price
Shares of Russian tube and pipe companies grew in price early in 2003 and 2004 as well as late in 2003 – prior to Mikhail Khodorkovsky’s arrest and "winding-off" of the Yukos case which had a negative effect on the Russian securities market. Growth went on starting from August 2004 together with the entire market torn off from the Yukos shares trend. A speculative component went a long way to the growth of quotations of steel companies. Shares of tube and pipe companies are considered to be substantially underestimated and it preconditioned larger demand.
Starting from the beginning of 2003 till the fall of the entire market in the first half of 2004 the shares of the tube and pipe plants grew in prices 2 to 8 times. Here the quotation changes were not at all affected by claims of continuous increases of steel prices which must have had a negative impact on financial results of the companies and lower their cost.
There is still a large gap in the liquidity level and tender volume typical of the TMK members and the other tube and pipe plants. The liquidity leaders are ChTPZ and VMZ: the share trading volumes of these plants are an order of magnitude larger than those of the other "tube and pipe" shares. The high level of investment attractiveness of ChTPZ and VMZ can be explained by transparency, good financial indicators and a more substantial quantity of shares in free transfer.
ÒÌÊ is willing to turn to Western standards of accounting control and become a company fully open for investors. It would like to obtain a London stock exchange listing.
Another step to the development of corporate share market and IPO at Western exchanges is the consolidation of shares of tube and pipe plants which will facilitate a transfer to single shares. In March TMK already redeemed stocks of the plants for US$600m from previous owners – today’s TMK shareholders. For this purpose TMK was granted a credit from a syndicate of Western banks headed by Dresdner Bank AG. As a matter of fact control over the plants is still in the hands of the same shareholders but this measure facilitates will make a transfer to common shares easier. Single shares, better transparence, publication of international reports will make it possible to adequately assess the cost of TMK which will most probably promote capitalization growth. Accordingly, future IPO will help to attract a large volume of funds to develop the plants.


Fig.1. Production trends and changes in market shares of Russian tube and pipe plants in 2002-2003
Production, ‘000t
1400
1200
1000
800
600
400
200


Market share
25 %
20 %
15 %
10 %
5 %

SevTZ
Tagmet
SinTZ
PNTZ
VTZ
ChTPZ
VMZ
Smaller tube plants

2002
2003
2003 (market share)
2003 (market share)

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According to data by TMK


Table 1. Existing large-diameter pipe projects
Diameter (mm), parameters Capacity, ‘000t Actual purchases of Gazprom, ‘000t Schedule of commissioning

Requirement of Gazprom 1420, one-seam, longitudinal-welded, wall up to 40 mm – 400 in 2003, 576 in 2004, 670 by 2010 –
VTZ 1420, spiral-welded, wall up to 18.7 mm 200 120 in 2003 already being supplied to Gazprom

Khartsyzsk Pipe Plant (Ukraine) 1420, two-seam, longitudinal-welded, wall up to 44 mm 400 135 in 2003 already being supplied to Gazprom

UMC 1420, one-seam, longitudinal-welded, wall 32 mm 570 Plan to buy up to 100 2005

Severstal-EvrazHolding alliance 1420, one-seam, longitudinal-welded, wall up to 40 mm during implementation of ZTBD project 450 – 2005

ChTPZ-ÌÌÊ alliance 1020–1220, two-seam, longitudinal- or spiral-welded, wall 22 mm 350–400 – 2006
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Source: companies’ data